October economic round-up

Credit: Office of National Statistics. Inputs into the Producer Price Index (PPI)

October 12, 2016

It is official

The economic weather following the Brexit referendum on June 23 was generally mild. Earlier stormy forecasts proved to be off the mark, though a few areas have witnessed significant disturbance.

A slew of new economic data has provided the first definitive evidence that confirms the observations of sentiment indicators that we have used in Chief-Exec.com to gain early and provisional insights into the economic response to the decision by the UK to leave the European Union (EU)

In its assessment of the post-referendum economy, the Office for National Statistics (ONS) concluded: “although the picture is still emerging, there has been no major collapse in confidence and within the data that is available there are indications of continued momentum in the economy”.

One cloud on the horizon is a consequence of the sharp drop in the value of sterling, which has increased producer input prices since July. The ONS report indicates that UK producers appear not to have passed all of their input price rises on to their customers. After two years with a negative Producer Price Index (PPI) – shown above – this inflation index has recently moved into positive territory with a value of 7.6 per cent in August. It should not be ignored. Pressures must exist on output prices with a likelihood of an increase in consumer price inflation.

This is not entirely a Brexit effect, but a significant fall in sterling will exacerbate the worsening conditions.

The sentiment indicators, meanwhile, continue to paint a picture of business as usual for the economies of both the UK and EU. Commentary on the European Sentiment Indicator (above) indicates that the September index improved in both the eurozone and the EU as a whole, following three months of negative or flat trends. Compared to recent history, the indicator is experiencing a relatively tranquil period. The same can be said for the closely watched Markit/CIPS PMI® indices for UK Manufacturing and UK Services, in which both sectors indicate a restoration of normal business activity after some significant drops immediately post-referendum.

Credit: Office of National Statistics

Trade balances (Exports minus Imports) up to August, shown above, do not reveal any detectable Brexit effect. Services continue to provide a net positive contribution to the UK balance to partly offset a larger deficit due to trade in goods. In August the estimated overall trade deficit rose to £4.7bn from £2.5bn in July. This fluctuation lies within its normal range of recent monthly variation.

The first “puzzle” is that the UK has seen barely any growth in worker productivity in the shaded area that marks the period following the onset of the economic downturn in 2008. Output (GDP) per hour worked had seen uninterrupted growth since the 1970s and had an average quarterly rate of about 0.5 per cent in the decade prior to 2008. This has slowed to just 0.1 per cent and output per hour is just now reaching its pre-recession level.

Since the 2008 recession, the recovery of UK productivity has been much weaker than in any of the economic recoveries of the past 50 years.

The ONS also has a second “puzzle” revolving round the UK’s long enduring “productivity gap” shown above with France, Germany and the USA. While a slowdown in productivity has been seen across advanced economies, the failure to return to growth in the UK has caused this productivity gap to widen in recent years.

The GDP per hour worked in France, Germany and in the USA in 2015 was about 25 per cent more than that of the UK worker.

Is there a systemic problem inhibiting the return to productivity growth in the UK? The weak productivity growth in recent years appears to be due to a weakness of “total factor productivity”, which accounts for the efficiency with which inputs (labour, capital, technology) are combined in production.

The ONS productivity report seeks to introduce new forms of analysis to unravel what is going on.

One approach being taken is to collect information on structured management practices among UK businesses, which have been shown to correlate with productivity. Structured management practices are seen to be more prevalent among larger businesses compared to the smaller businesses that account for a majority of UK manufacturing.

But doesn’t this rather gloomy picture conflict with what is widely broadcast, that the UK economy is generally sound and is out-performing its G7 partners with quarterly growth of 0.7% in June?

On the production side, the ONS reports that the contribution of labour to recent growth is almost entirely related to a rise in the number of hours worked, through net inward migration together with higher employment rates. This effect dwarfs the minimal growth obtained by improving labour quality through education and on-the-job training.

The rise in employment rates in the UK – specifically for UK nationals – has also featured in a recent twitter discussion.

British workers already HAVE British jobs. The employment rate for UK nationals is the highest since at least ’97 (as far back as data goes) pic.twitter.com/ZFhzZaksIO

The average hours worked per worker in the UK are lower today than they were 20 years ago – in part because of the growth of part-time working. Individual decisions to limit the number of working hours, along with rising UK national employment and a likely fall in the economic contribution of overseas labour, will mix together to determine the labour supply to the future UK economy. A resuscitation of worker productivity will be important for its performance.

News Bites

May to hold talks with Merkel in Berlin
Theresa May is due to hold talks with German Chancellor Angela Merkel as she seeks to make progress on negotiating Brexit. The PM will travel to Berlin for the meeting at the Chancellery. It comes a day ahead of a speech on Saturday in which she is expected to set out the “security partnership” she wants to maintain with the EU. The UK is under pressure to reveal more detail about the final relationship it wants with the EU. Mrs May and her ministers are setting out what has been dubbed “the road to Brexit” in a series of speeches. BBC news, February 16

UK aims to keep financial rules close to EU
The UK is ready to set out its vision for how it wants financial services to operate after Brexit and favours an ambitious “mutual recognition” of regulations to preserve the City of London’s access to the EU. Under Britain’s proposal, the UK and the EU would recognise each other’s regulatory and supervisory regimes and would have aligned rules at the point of Brexit, with a mechanism that would monitor any divergence. Three senior figures briefed on Brexit discussions in the cabinet said that the government will back the proposal, which is also favoured by Mark Carney, the Bank of England governor. Financial Times, February 16

Business leader warns May against harsh immigration policy
British companies are facing a recruitment crisis, with labour shortages hitting critical levels in some sectors, according to a business leader who has urged the government to produce details on a post-Brexit immigration system. Adam Marshall, the director general of the British Chambers of Commerce, said the lack of candidates for some jobs was biting hard, and he warned ministers against bringing forward a “draconian and damaging” visa or work permit system. Surveys by the BCC showed that nearly three-quarters of firms trying to recruit had been experiencing difficulties “at or near the highest levels since [BCC] records began over 25 years ago”, he said. The Guardian, February 16

Lecturers want ‘radical’ tuition fee review
University staff are calling for a “radical” overhaul of tuition fees and higher education funding in England in a review of student finance. Sally Hunt, leader of the University and College Union, says the review must be more than “tinkering at the edges”. The review, expected to be formally announced in the near future, follows a promise by the prime minister to examine the cost of university. Theresa May said the review would show “we have listened and we have learned”. Ms Hunt, whose members are threatening strike action next week in a pensions dispute, says there needs to be a “fundamental look at university funding”. BBC news, February 16

Shampoo ‘as bad a health risk as car fumes’
Shampoo, oven cleaner, deodorant and other household products are as significant a source of the most dangerous form of air pollution as cars, research has found. Scientists studying air pollution in Los Angeles found that up to half of particles known as volatile organic compounds (VOCs) came from domestic products, which also include paint, pesticides, bleach and perfumes. These compounds degrade into particles known as PM2.5, which cause respiratory problems and are implicated in 29,000 premature deaths each year in the UK. Traffic had been assumed to be the biggest source of air pollution. The new findings, published in the journal Science, led to warnings that countries may struggle to hit pollution targets, with most tackling vehicle emissions. The Times, February 16

US rejects China bid for Chicago Stock Exchange
The US has rejected a proposed merger between the Chicago Stock Exchange and a Chinese-linked investor group. The decision comes after more than two years of reviews by officials. The tie-up was initially approved by the Committee on Foreign Investment in the United States, pending further approval by the Securities and Exchange Commission (SEC). But US politicians, including President Trump, have said letting a Chinese firm invest in a US exchange was a bad idea. Under the proposal, the Chinese-led North America Casin Holdings group would have bought a minority share of the privately owned Chicago Stock Exchange. BBC news, February 16

Labour gets 16,000 emails in five days urging it to consult on Brexit
More than 16,000 people have emailed Labour over the past five days, urging the party to consult members on Brexit after MPs said the topic was being ignored by its most senior policy body. The emails from party members will be examined by the party’s national policy forum (NPF), which meets this weekend in Leeds, and whose members include the shadow cabinet and trade union leaders. Labour has set up eight policy commissions since last year’s general election, to consult members and develop policy, but none focus on Brexit. The party has said Brexit is covered under the international policy commission, involving Keir Starmer, the shadow Brexit secretary, but that commission is not at the moment accepting submissions on Brexit. The Guardian, February 15